Brazil Insurance: Protectionism Deters Investors

For
foreign insurers, the Brazilian insurance market may at first seem like a mouthwatering
opportunity. But the government’s cautious approach to the opening of the
sector and market distortions are making it a tough nut to crack. In fact,
experts say, insurance is a microcosm of the problems Brazil faces as it
grapples with how wide to open its economy -- and that is leading to missed
opportunities.

Brazil's
insurance markets are in a stage of rapid development. There has been average
growth of about 13 percent a year in premiums, says Elias Silva, coordinator of
the petrol risks group at insurance broker JLT in Rio de Janeiro. According to
regulator SUSEP, the Brazilian superintendent of private insurers, premiums
grew at 14.58 percent last year alone. Today, the market is worth a hefty US$33
billion. Moreover, there is plenty of untapped demand, and some insurance
markets remain incipient. Insurance penetration is just above 50 percent of the
Organisation for Economic Co-operation and Development (OECD) average at just
US$350 annual spending per capita, according to the International Monetary
Fund.

Foreign
entrants see Brazil as a market that is too large to be ignored. John Nelson,
chairman of Lloyd’s of London, has identified Brazil as a key target for
expansion. Lloyd’s recently hired Henrique de Meirelles, a former governor of
Brazil's Central Bank, as a member of the giant underwriter’s council.
Increasingly, foreign insurers are becoming significant players in some of the
country's markets. Liberty of the U.S., and Germany’s Allianz and HDI are in
the top-10 car insurance providers in the country by premiums.

For
the most part, however, foreign insurers are looking at commercial risk rather
than at key retail sectors such as life, auto and health, says Joan
Lamm-Tenant, global chief economist and risk strategist at global reinsurance
mediary Guy Carpenter & Company. Those foreign newcomers competing in
personal insurance are coming up against highly entrenched Brazilian
institutions and the dominant bancassurance model, where banks are the primary
distributors of personal insurance.

Increased
competition across the board means that margins have become too low to be
attractive, notes Lamm-Tenant. “Foreign insurers rushed in and obtained
licenses. But that led to pricing that continues to be incredibly competitive
and not sustainable,” she says. The problem is that insurers are trying to
price in a market that’s still evolving, she adds. In developed markets, you
have years of data on claims on which to base prices. “In Brazil, the
infrastructure is just being created, and we just don’t know how the litigation
environment, codes and standards will be.”

Moreover,
the two most common routes to enter the market -- through a joint venture or
acquisition -- are pretty much saturated. “I tell firms that if you haven’t
already gotten in yet, you may be too late,” she says.

Lamm-Tenant
predicts that not all will survive in Brazil’s competitive market. Some
insurers are already deciding that other markets in Latin America, such as
Colombia and Peru, are more attractive. The economies may be much smaller, but
both are enjoying strong GDP growth and there are fewer barriers to entry for
insurers and less regulatory uncertainty.

The
costs for the Brazilian economy if foreign insurers do withdraw will be high.
The insurance industry needs foreign expertise and know-how, analysts note.
Foreign insurers have been pushing an agenda of consulting to implement global
best practices in many industries, securing significant improvements in work
practices. They are also working to make insurance policies accessible to lower
income consumers through new distribution channels, so fresh thinking should
allow innovations such as online sales and microinsurance to take off.

Stop-go Policies

In
addition to pricing pressures, there are two key issues that have been
deterring foreign investments: legislation and distribution.

The
government’s stop-go policies on liberalizing the insurance market have already
caused consternation among foreign insurers. An opening and retrenchment of the
reinsurance market is a perfect example, and it is affecting the commercial
markets. In 2008, the monopoly held by the state company, Reinsurance Institute
of Brazil (IRB-Brazil), was finally broken, says Elias. Since the opening, 102
reinsurers have been licensed by SUSEP, the large majority being international
players.

However,
the government quickly found that local players were shut out of the newly
competitive reinsurance market because international markets offered better
pricing. That led to an abrupt and damaging change in policy. The insurance
regulator, the Rio de Janeiro-based Superintendent of Private Insurers,
modified rules in 2010 to protect the local market. Local reinsurers must take
40 percent of any reinsurance order, says Silva. That has put local brokers in
the driving seat in terms of pricing.

This
hybrid model has proven to benefit incumbents. One reason is that local
companies often do not have sufficient capital to underwrite insurance for
large deals. That has ensured the previous monopoly company IRB-Brazilhas
retained the lion’s share of the reinsurance business.

The
decision to impose restrictions on the liberalization of the reinsurance market
has also created distrust around future legislative changes in Brazil, an
irritant that is certainly not confined to this sector. Players in the London
market struggle to understand not only the insurance and re-insurance
legislation, but also the levy of taxes when insurance or reinsurance is
purchased, notes Michelle Oliveira, an associate in the construction and real
estate division at insurance broker JLT in London. In medium-sized construction
projects, local insurers are increasingly dominating the Brazilian market.
Moreover, the limits on liberalization drive up costs for all. When you have
limiting regulations through market mechanisms, you create friction cost, says
Lamm-Tenant.

Commercial
insurance in Brazil will be affected at a time when this is a key focus for the
country. The oil and gas and construction sectors are just two industries that
stand to be hit. Brazil’s pre-salt area is turning out to be both larger and
more difficult to access than thought, and there are plenty of new areas to be
tapped. Brazil will host the World Cup next year and the Olympics in 2016, and
a host of infrastructure upgrades across the country together with large
over-runs on some of the country’s most prestigious projects make a functioning
insurance market vital.

Another
area that has suffered from a lack of insurance is in natural catastrophes.
Although Brazil is not prone to earthquakes or hurricanes, mudslides are common
throughout the county and made worse because of the common practice of building
often illegal settlements on the banks of streams and rivers that are prone to
overflow. This should be a significant market for insurance companies, but the
government has not been able to unlock the market and remains the chief
provider of rescue funds.

Blocked by Brokers

If
the government has been responsible for causing many of the problems on the
commercial side, it is brokers that are blocking developments on the retail
side. The high costs of distribution have stunted the development of the
personal insurance market. The typical figure for brokers’ commission is 20
percent to 25 percent in Brazil, says one broker who preferred not to be named.
The bancassurance-style market – with distribution via banks -- and heavy
commission schedules mean insurance policies are expensive and insurers tend to
focus exclusively on the wealthy.

The
car market is a good example of how these market distortions lock out poorer
consumers and lead to low levels of coverage. Some 3.8 million vehicles were
sold in Brazil last year, an increase of 4.65 percent over 2011 -- itself a
record year, according to Brazil’s Federation of Vehicle Distribution,
Fenabrave. But few drivers take out insurance outside Brazil’s compulsory third
party scheme, and some 70 percent to 80 percent of drivers are uninsured.
Ricardo Fuzaro, director of investor relations at Porto Seguro in São Paulo,
estimates that about half of Brazilian cars are more than 10 years old. Part of
the reason is that insurance is relatively expensive.

Insurance
consultant Carlos Luporini says that car insurance is more expensive than in
other key markets. These high prices are coupled with Brazil’s low incomes
ensuring low levels of penetration, he notes.Brazilian insurers have failed to
innovate much. There is little risk-profiling of drivers, for example, to
penalize dangerous drivers and reward safer ones, and prices are concentrated
around a mean. The established brokers are now only beginning to look at greater
differentiation in prices.

In
addition to the lack of innovation on the insurance side, brokers are stifling
the development of new technologies in distribution. Take online sales.
McKinsey carried out a survey of 4,500 Brazilians, of whom 20 percent said they
would “certainly” buy car insurance policies online. A further 50 percent said
they would "very probably" buy online, and just 5 percent of
respondents said they “would not” buy online. Yet according to Fuzaro, less
than 1 percent of car insurance sales are transacted online. While younger
people are looking at Internet solutions, Brazilians are loyal to their broker,
he believes. “We don’t see major structural changes for the Brazilian car
insurance business,” he says. Although price comparison sites are well
established online, they push sales to traditional brokers and so commissions
remain intact.

Incentivizing Change

The
dual role of unpredictable changes in legislation and the unassailable role of
the broker have tended to stifle innovation. According to analysts, efficiencies
are needed to open up new segments of the insurance market, particularly for
lower income consumers, who have traditionally been poorly served.

Insurers
need to not only provide capital, but also to transfer knowledge and improve
standards, agrees Lamm-Tenant. “Companies that succeed will provide ideas and
incentivize companies through their product offering greater deductibles for
implementing best practice,” she says. She does see some new products and
points to innovations in specialized areas such as medical malpractice
insurance, where doctors’ groups are using technology not only to distribute
products but mitigate risk and in property and casualty. Yet these are the
exception in Brazil.

By
contrast, in developed markets, there are lots of mechanisms to incentivize and
encourage behavior change, Lamm-Tenant says. Take cargo transportation, a
sector growing rapidly because of the expansion in the domestic consumer
market. Brazil has significant loss rates because of unusually high levels of
accidents and robberies. Accidents account for some R$6-7 billion in losses per
year alone.

A
lack of well-trained drivers combined with long hours and congested, poorly
maintained roads cause complications. Practices can be precarious, says São Paulo-based
Luis Vitiritti, marine consultant and RE customer manager for Latin America at
the Brazilian arm of Swiss insurer Zurich. He points to very basic failings,
including totally inadequate packaging where even the use of the most basic
techniques such as boxes and the proper use of adhesive tape is not widespread.
Foreign insurers are helping the industry modernize practices. For example,
they use detailed questionnaires to identify and quantify risks. Moreover, they
offer extensive consultations and bring in best practices to help reduce the
price of insurance. Such risk management solutions can cut losses by 50 percent
or even 60 percent.

Up Next: Microinsurance

Lack
of innovation in insurance will also stymie the development of key sectors
including one that offers one of the greatest potentials for growth and a high
return for society: microinsurance.

This
is an area that Lamm-Tenant sees as one of the most attractive in the world,
and she is working on a pilot project to develop the market. Brazilian
legislators are proving more flexible in this area and have passed legislation
that allows simplified procedures and allows insurers to bypass brokers by
distribution through stores and possibly mobile phone technology.

Lamm-Tenant
has been working on the project for more than 18 months with six insurers.
According to a report by Marsh & McLennan, parent company of Guy Carpenter,
the Brazilian market has an estimated market potential of 100 million customers
and between US$1.5 billion to US$4 billion in annual premiums over the next
decade with a possible return on equity of 20 percent. The market can only be
cracked open if costs can be substantially lowered. That requires multiple
insurers entering the market and distribution channels that bypass the
traditional broker model, says Lamm-Tenant.

The
Brazilian market is in a state of flux. It seems to offers plenty of
opportunities for foreign companies, but pricing is too competitive, regulation
too unpredictable and brokers too powerful. Companies looking for a fast return
on their capital will find Brazil a tough market to crack, concludes
Lamm-Tenant. If Brazilian authorities fail to modernize the industry, it risks
losing a historical opportunity to innovate and push into new areas that would
benefit the emerging middle class.